David Kirk, the UK Financial Conduct Authority’s chief criminal counsel, says "dubious trading activity" has fallen by 50% in three years as FCA vows to continue crackdown on hedge fund traders
David Kirk, the UK Financial Conduct Authority’s chief criminal counsel, says “dubious trading activity” has fallen by 50% in three years as FCA vows to continue crackdown on hedge fund traders
The UK financial regulator’s tough stance on insider dealing at prominent hedge funds and asset managers has contributed to a 50% fall in “dubious trading activity” around earnings announcements and other market-moving news in the past three years, according to David Kirk, chief criminal counsel at the Financial Conduct Authority (FCA).
Speaking at the GaimOps conference in the Cayman Islands, Kirk highlighted last year’s case against David Einhorn and Greenlight Capital as an example of the FCA’s approach to rooting out market abuse.
Einhorn and his $9 billion hedge fund were fined £7.3 million ($11.1 million) for engaging in market abuse in relation to an equity fundraising by Punch Taverns, the largest pub and bar operator in the UK.
The Financial Services Authority (FSA), the predecessor to the FCA, imposed the penalty despite accepting that Einhorn did not knowingly and deliberately trade on inside information. Indeed, Einhorn had explicitly refused to give Punch a commitment to treat the information he received in a telephone call with its broker and management team as confidential.
Kirk says the FCA intends to continue with its “credible deterrence” strategy by pursuing cases against prominent figures in the financial industry. The aim of regulatory actions, he says, is to “send a shiver up the spines” of market participants that engage in market abuse.
“The Einhorn case attracted a great deal of interest because he is a serious player in the market,” says Kirk. “We have found this [strategy] has had a significant effect… on market integrity” as evidenced by a meaningful decline in suspicious trades.
The FCA is taking a tougher stance on market abuse than its US counterparts, according to John Nathanson, a partner at law firm Shearman & Sterling. He argues Einhorn’s actions would not constitute insider trading under US law because he explicitly disavowed any duty of confidentiality in the call with Punch.
“In some ways, the UK has gone beyond the US in terms of what constitutes proper conduct,” he says.
Patrick Sinclair, a prosecutor in the US attorney’s office, disagrees. He says Einhorn should have sought advice from Greenlight’s legal and compliance team before trading on the information. The company contacted Einhorn to solicit his support for its fundraising plans “and instead of engaging in an honest dialogue, Einhorn turned around and traded on the information”.
His advice to hedge fund managers is simple: “If a company provides you with information in trust, involve the compliance and legal people immediately. Don’t just sell out the position.”
Kirk also defends the FSA’s decision to fine Einhorn even though it could not prove he knowingly traded on inside information. “The facts were absolutely clear. There was a 45-minute conversation [with Punch] and he traded on the information two minutes after he put the phone down. He should have appreciated he was trading on inside information.”
Einhorn’s failure to inform Greenlight’s compliance team was a factor in the decision to pursue the case, says Kirk. “If a senior person doesn’t seem to believe they need to seek advice [from the compliance group], the regulator sees that as a danger sign,” he says.
The US attorney’s office is shifting its attention to political intelligence companies that gather and disseminate information on pending legislation and government policy. “Political intelligence firms are expert networks 2.0,” says Sinclair.
He says US regulators are “looking at whether government actors and lobbying groups have breached their duties by disclosing confidential information to financial institutions and hedge funds”.
Last year the US Congress enacted the Stop Trading on Congressional Knowledge Act, or Stock Act, which prohibits lawmakers and other public officials from trading on non-public government information or passing this on to others.
There have also been calls for political intelligence companies to register with regulators and disclose their activities.
Height Securities, a political intelligence company, has recently come under scrutiny after it alerted clients of a shift in government policy that benefited health insurance companies.
Marwood Group, another political intelligence group, was subpoenaed by the SEC earlier this year after it alerted its clients that the Food and Drug Administration would delay approval of a drug to treat diabetes.
Sinclair says regulators are focusing on hedge fund compliance with SEC Rule 10b5-1, which provides a safe harbour for directors and board members to sell stock in the company. Hedge funds need to have policies on trading by employees that may have access to non-publication information because of their position on a company’s board.
“Hedge funds should be aware of the company’s policy and ensure the board member - your insider - is following those rules,” says Sinclair. “We are going to be reviewing these practices further.”
This article was first published on Risk